Int. J.

Production Economics 171 (2016) 241–249

Contents lists available at ScienceDirect

Int. J. Production Economics

journal homepage: www.elsevier.com/locate/ijpe

The strategic fit between innovation strategies and business

environment in delivering business performance
Daniel I. Prajogo n
Department of Management, Monash Business School, Monash University, Australia

art ic l e i nf o a b s t r a c t

Article history: This paper examines the role business environments (in terms of dynamism and competitiveness) as
Received 17 September 2014 contingency factors which affect the effectiveness of different types of innovation strategies (in terms of
Accepted 30 July 2015 product and process) in delivering business performance. Using the data of 207 manufacturing firms in
Available online 28 August 2015
Australia, this study shows that dynamic environments strengthen the effect of product innovation on
Keywords: business performance. Competitive environments, on the other hand, weaken the effect of product
Innovation strategies innovation on business performance, but strengthen the effect of process innovation on business per-
Business environment formance. Overall, this study demonstrates the strategic fit between dynamism and product innovation
Strategic fit strategy as well as between competitiveness and process innovation strategy. On the other hand, com-
Business performance
petitiveness also shows a strategic mismatch with product innovation. The theoretical and practical
implications are discussed.
& 2015 Elsevier B.V. All rights reserved.

1. Introduction attention in the literature (Carranza, 2010; Corsino and Gabriele,

Most studies on innovation have been focused on understanding
how internal organizational factors including top management,
human resources, technological capabilities, and organizational cul-
ture, affect innovation (Aragón-Correaa et al., 2007; Bhattacharya and
Bloch, 2004; Canto and Gonzalez, 1999; Damanpour, 1987; Herzog
and Leker, 2010; Murat Ar and Baki, 2011; Oke et al., 2013; Sub-
ramanian and Nilakanta, 1996). This is because innovation is seen as
an activity that is within the control of a firm which management can
control or manipulate. In contrast, less is known about the effect of
external factors on innovation. Firm's actions including their innova-
tive activities are contingent upon and are sometimes driven by
external factors including customer (market) demand, competitors'
actions, or even government's legislations (Caruana et al., 2002;
Corrocher and Zirulia, 2010; Tao et al., 2010; Tripsas, 2008; Yalabik
and Fairchild, 2011). In this study, we focus on the effect of dynamic
and competitive environments on innovation strategies (Lumpkin and
Dess, 2001; Tidd et al., 2005).
Innovation itself as a concept is multi-dimensional comprising
various types. Product innovation is defined as the development or
use of new components, features and technologies to produce new
products. Product innovation has attracted a significant amount of
n innovation strategies which are effective in improving perfor-
Correspondence address: Department of Management Monash University PO
Box 197, VIC 3141, Australia. Tel.: þ 61 3 9903 2030; fax: þ 61 3 9903 2718.
E-mail address: daniel.prajogo@monash.edu
2010; Danneels, 2002; Fintana and Nesta, 2009; Kusiak, 2009;
Page, 1993; Verhees and Meulenberg, 2004; Wren et al., 2000),
and studies have shown its direct effect on firms' business per-
formance (Bhaskaran, 2006; Calantone et al., 1995; Damanpour
and Evan, 1984; Georgellis et al., 2000; Hall and Bagchi-Sen, 2002;
Kayhan et al., 2006; Rauch et al., 2009; Wiklund and Shepherd,
2003, 2005). Process innovation is defined as the improvement to
production processes technologies required to produce a product.
Because process innovation typically occurs within the internal
operations of a firm, less is known about process innovation; its
antecedents and consequences, compared to product innovation
(Bonanno and Haworth, 1998; Clark and Stoddard, 1996; Kraft,
1990; Reichstein and Salter, 2006; Weiss, 2003). Despite the fact
that both product and process innovation have a positive effect on
business performance (Prajogo and Ahmed, 2007), the under-
standing of the external market conditions or characteristics under
which these two different forms of innovation more or less ben-
eficial is limited.
While innovation studies have shown the effectiveness of
innovation as a competitive strategy, they also suggest that such
effectiveness is influenced by the environmental context in which
the firm operates and competes (Barney, 2001; Jansen et al., 2006;
Katila and Shane, 2005; Tsai and Yang, 2013). This is because the
mance in certain environments may not be as effective in other
environments. As a result, managers must seek the fit between

http://dx.doi.org/10.1016/j.ijpe.2015.07.037
0925-5273/& 2015 Elsevier B.V. All rights reserved.
242 D.I. Prajogo / Int. J. Production Economics 171 (2016) 241–249
firms' innovation strategies and the conditions of its environment
as external environment can moderate the relationship between
firms' innovation strategies and their performance. In other words,
the return generated from innovation is the result of the interac-
tion between business environment and firms' innovation strate-
gies and capabilities (Kerin et al., 1992). However, so far not many
studies have been focused on examining the moderating effect of
business environment on the impact of innovation strategies on
firms' performance (Zahra, 1996). Therefore, the primary objective
of this study is to examine the moderating roles of dynamic and
competitive environments on the effectiveness of product and
process innovation in delivering business performance.
Several past studies on innovation have shown the driving roles
of dynamic and competitive environments on both product and
process innovation, thus, treating business environments as
antecedents of innovation strategies (see for example, Damanpour,
2010; Jayaram et al., 2014; Ozsomer et al., 1997). This study is
different from the previous ones in terms of positioning business
environment and innovation strategies as it considers business
environment as the contextual or moderating variables of inno-
vation strategies which influence the effect of the innovation
strategies on business performance. This is because while we
agree with the notion that business environment could drive
strategies; however, from a strategic choice perspective, firms still
can choose the particular strategies they want to implement apart
from the business environment wherein they operate. As such,
firms can exercise their strategic choice in pursuing specific stra-
tegies regardless the business environments where they operate.
The question asked, therefore, is whether firms' strategic choice
will be effective in delivering business performance considering
the external context of the firms (i.e. business environment), and
this study seeks to address this question with respect to product
and process innovation strategies. Specifically, this study addresses
the questions how effective product and process innovation stra-
tegies in delivering business performance in different levels of
dynamism and competitiveness of the environment where firms
operate.
2. Theoretical background, hypotheses, and research
framework
2.1. Product and process innovation strategies
Since Schumpeter's (1934) concept on “creative destruction”,
innovation has been recognized as one of the effective competitive
strategies in business markets today; indeed, it is considered as a
viral strategy not only for building competitive advantage but also
sustaining it (Tidd, 2001). Innovation strategies can be defined as
successful implementation of creative ideas within organizations
which deliver values to customers (Hurley and Hult, 1998). In the
light of Resource Based Theory (RBT), successful innovation stra-
tegies could deliver superior performance as innovation delivers
value to customers, different from competitors (rare) and difficult
to be imitated, and cannot be substituted (Barney, 1991; Peteraf,
1993; Wernerfelt, 1984). A number of studies have used RBT as a
theoretical lens in showing the competitive value of innovation
strategies in terms of business performance (Cheng et al., 2014;
Terziovski, 2010; Wang, 2014).
As mentioned earlier, innovation can be implemented in different
forms, and this study considers two major types of innovation: pro-
duct innovation and process innovation. These two types of innova-
tion have dominated most discussions and empirical studies on
innovation since they have significant strategic values in delivering
competitive advantage for organizations (Abernathy and Clark, 1988;
Ettlie et al., 1984; Goedhuys and Veugelers, 2012; Huiban and
Bouhsina, 1998; Jiang et al., 2013; Kraft, 1990; Shu et al., 2012; Tidd
et al., 2005; Tushman and Nadler, 1986). The categorization of inno-
vation dimensions as product and process is also important because it
relates to the specific organization strategy that a firm adopts to
respond to market demand and opportunities by capitalizing on
organizational capability and competence. Managers often encounter
strategic choice problems where they have to choose between
advancing knowledge or technology and embodying them in new
products or pursuing higher return by exploiting the return of current
products by more efficient production system. This problem stems
from the choice between product and process innovation which is
driven by the competitive environment where firms operate (Filipini
and Martini, 2010).
Generally product innovation draws a greater attention in the
studies of innovation than process innovation; most probably
because it is considered as more visible to customers and have a
potential of opening of new markets, especially in manufacturing
sectors. In essence, product innovation offers customers with
various values other than the “newness” or “novelty” itself. New
products could improve sales because they have a better perfor-
mance (e.g. reliability or durability), better features (e.g. integrated
facilities), others (including esthetic) compared to the existing
products offered by competitors in the market (Xin et al., 2010).
One aspect of competitive advantage of product innovation is that
customers can see the values relatively clear which could drive
them into the purchasing decision.
H1. Product innovation strategy has a positive relationship with
business performance.
While product innovations offer strategic advantages in the
marketplace, process innovations are equally important sources of
competitive and strategic advantages. Indeed, process innovations
have an advantage over product innovations since they are often
hidden internally within organizations which make them difficult
to be imitated by competitors (Maine et al., 2012). Therefore, firms
that are focused on process innovations in their strategies may not
be aggressive in developing new products to the markets. Instead,
they may compete in established (mature) markets where the
state of the arts of the products are already well established, and
the primary focus of the strategies is to make and deliver products
(which could be similar to competitors) to customers in higher
values, such as faster, more flexible, or cheaper (Congden and
Schroeder, 1996; Ittner and Larcker, 1997; Klingenberg et al., 2013;
Schroeder, 1990). Furthermore, firms can employ process innova-
tions (in the form of new process technology) as a strategic
scheme to increase entry barriers for competitors; hence, pro-
tecting the firms' markets advantage (Porter, 1985). These values
could also be easily communicated and promoted to customers to
affect their purchasing decisions. By and large, both product and
process innovation can be used as competitive strategies to offer
customers with greater values, hence, improving firms' business
performance. Accordingly, we hypothesize:
H2. Process innovation strategy has a positive relationship with
business performance.
2.2. Environmental Dynamism and Competitiveness as Contingent
Factors
The characteristics of business environment have been con-
ceptualized in many ways, but most of them can be rooted back to
the work by Dess and Beard (1984). In this study, we focus on two
environmental constructs which have been commonly examined
in the past studies of innovation: dynamism and competitiveness
(Covin and Slevin, 1989; Khandwalla., 1977; Ozsomer et al., 1997;
Ward et al., 1995; Zahra, 1996). As we have noted, dynamic
 D.I. Prajogo / Int. J. Production Economics 171 (2016) 241–249
environments are characterized by constant rate of change and
flux that open up opportunities and market niches. In such
environments, firms will strive to innovate in products to satisfy
changing customer preferences and secure competitive advantage
(Lumpkin and Dess, 2001). In contrast, competitive or hostile
environments represent the degree of threat to firms caused by
fragmented and intense competition due to scarce resources and
tighter profit margins. Firms operating in this kind of environ-
ments commonly put more attention to the conservation of
resources and focused more on economical competitive strategies
(Miller and Friesen, 1983).
Business environment has been recognized as one of the con-
tingency factors in strategic management research as the universal
relevance of competitive strategies has been replaced by con-
tingency view in determining the effectiveness of the strategies
(Hambrick and Lei, 1985; Miller and Friesen, 1983; Venkatraman
and Prescott, 1990). For example, Miller (1988) in examining the
contingency view of Porter's generic strategies suggested that
differentiation strategies would fit better to dynamic or growing
environments while cost leadership strategies would be more
suitable for mature or stable environments. In assessing the role of
business environment as a contingency factor (moderator), this
study takes contingency theory of organizations as the theoretical
lens (Donaldson, 2001) which suggests that firms' strategies or
capabilities must be aligned with the characteristics of the envir-
onment in which it operates in order to deliver competitive
advantage (Donaldson, 2001; Lawrence and Lorsch, 1967; Powell,
1992). Literature on RBT also supports the contingency theory and
suggests that the effectiveness of firms' strategies and capabilities
is influenced by the characteristics of industries and markets
where the firms operate (Barney, 2001; Priem and Butler, 2001).
This contingency theory is also applied to the case of innova-
tion strategies in the sense that to what extent innovation stra-
tegies will flourish depend on the conditions of business envir-
onment where they are implemented. For example, Calantone
(1994) argues that to be effective, innovating firms should define
their strategic posture (aggressive versus passive) in contingent to
their competitive environment. Past studies have shown that the
effectiveness of a strategic orientation (including innovativeness)
depends on environmental factors (Cao et al., 2011; Lumpkin and
Dess, 2001). For example, the study by Auh and Menguc (2005)
shows that the level of competitiveness of business environment
moderates the effectiveness of innovation orientations in pre-
dicting firms' effectiveness and efficiency performance. Similarly,
the study by Lumpkin and Dess (2001) demonstrates how differ-
ent aspects of entrepreneurial orientation has different impact on
firms' performance in different types of environments. The study
by Jansen et al. (2006) shows the moderating effect of environ-
mental dynamism and competitiveness on the relationship
between different types of service innovation orientation
(exploratory and exploitative) and financial performance. Despite
these handful studies, little is known about the moderating roles
of external environmental factors on the effectiveness of a firm's
product and process innovation strategies in terms of their effect
on business performance. This issue is worth considering as the
relationship between the characteristics of business environment
(including competition) and innovation strategies (in general)
could be different when product and process innovations are
treated separately (Santos, 2009). As such, this study does not
consider innovation as a single construct; rather it is multi-
dimensional (i.e. product and process) based on the notion that
each of the dimensions, while related, has distinctive character-
istics which would fit (and be effective) to different environments.
Literature has recognized that more dynamic business envir-
onments creates a driving force for innovations (Baron and Tang,
2011; Freel, 2005; Huse et al., 2005; Lee, 2011; Miller and Friesen,
243
1982; Wang and Chen, 2010). This is because in such environments
customer tastes or preferences change quickly, and firms need to
respond by offering product innovations which fit to the new
needs of the market (Tidd, 2001; Tripsas, 2008). Such products are
typically superior in the sense that they are capable of generating
rent and capturing market share (Levinthal and March, 1993;
Lewin et al., 1999; Miller and Friesen, 1983). The combination of
rapid technological changes and knowledge diffusion in dynamic
environments not only drive firms to invest in their innovative
capabilities (including R&D) but also strengthens their competitive
position which results in profitability and market share gain (Zahra
and Bogner, 1999). Therefore, more volatile and dynamic envir-
onment would reward the need for firms to produce winning
products that are capable of impacting the firms' business per-
formance compared to less volatile and dynamic environments.
Accordingly, we hypothesize:
H3. Environmental dynamism positively moderates the relationship
between product innovation and business performance such that the
higher the dynamism the stronger the relationship between product
innovation and business performance.
Similarly, dynamic environments also propel firms to conduct
process innovations. One of the reasons is that product innova-
tions commonly require process innovations as firms need to
adopt new methods or technologies to develop new products in
response to changing demands in dynamic environments (Daim,
2013). In other words, product innovations would naturally drive
process innovations. For example, new product developments
would need innovations in process technology or new ways of
producing and delivering the products faster to seize emerging
new markets (Lumpkin and Dess, 2001; Miller and Friesen, 1983).
Furthermore, in highly dynamic environments firms need all kinds
of strategies, particularly innovative strategies that can positively
impact their business performance and give them an increased
financial leverage to compete more effectively in such environ-
ments. For example, new technologies and processes contribute
towards financial leverage and business performance through
higher quality products and improved speed of product delivery
(Huse et al., 2005). Thus, highly dynamic environments are more
likely to goad firms to innovate more in impactful and rent gen-
erating process innovations compared to environments with low
dynamism. Taken together, we propose to test the following
hypotheses.
H4. Environmental dynamism positively moderates the relationship
between process innovation and business performance such that the
higher the dynamism the stronger the relationship between process
innovation and business performance.
Literature has noted that highly competitive environments will
cause difficulties for firms to compete on the basis of product
innovation as a result of high number of firms offering similar
products competing in the markets (Zahra and Bogner, 1999). The
difficulties in differentiating the products from the competitors'
require greater efforts and resources to develop new products as
customers have become experienced and knowledgeable on their
expectations from the products offered in markets. This results in
high costs of creating the differentiation values, and, consequently,
firms might not gain significant profits from new products inno-
vation (Iansiti, 1998). On top of this, competitors would be able to
easily match the new products, thus, further eroding the profits
expected from the new products (Porter, 1980). Therefore, com-
petitive environments where price war is dominant will not
reward product innovation strategies; indeed, they may hurt the
return of investment in this strategy (Buzzell and Gale, 1987). In
support, Miller and Friesen (1983) argue that strong emphasis on
244 D.I. Prajogo / Int. J. Production Economics 171 (2016) 241–249
product innovation can be perilous when the competitiveness of
the market intensifies. The implication is that although product
innovation is related to improved business performance, in highly
competitive environments (markets), less rent can be generated
from product innovation due to competitors' matching (Levinthal
and March, 1993). Accordingly, we offer the following hypothesis:
H5. Environmental competitiveness moderates the relationship
between product innovation and business performance such that the
higher the competitiveness the weaker the relationship between
product innovation and business performance.
As mentioned above, competitive environments are often char-
acterized with price war where the combination of tight profit mar-
gins and cash flows are dominant. The price war is caused by the fact
that customers are no longer able to determine significant qualitative
differences among competing products and, therefore, emphasize
prices in their purchasing decisions. In this situation, firms' strategic
responses will typically be focused on reducing costs (so as to offer
lower prices to customers). In addition, tight cash flows in competitive
environments also force firms to be more focused on conserving their
limited financial resources. As a result, competitions on costs which
comes from process innovation would be more dominant than com-
petitions on product innovations (Covin et al., 1999). This is because
such innovations are typically hidden from competitors and through
them firms are able to achieve financial conservation that may be vital
to survival and offering of highly competitively priced products in such
environments (Friar, 1995; Hambrick, 1983; Zahra and Covin, 1993).
From product or technological life cycle perspective (Klepper, 1996)
(Utterback and Abernathy, 1975), in a mature industry, larger firms
have greater incentives by focusing on process innovations to serve the
existing customer base. This is because the value of process innovation
is increasing proportionally to the volume of the outputs produced by
the firm (based on economies of scale). In addition, process innova-
tions can positively affect business performance through cost savings
in production technology and processes (Crespi and Pianta, 2008).
Therefore, the effectiveness of process innovation in terms of its effect
on business performance increases in more competitive environments.
Taken together, we posit the following hypothesis:
H6. Environmental competitiveness moderates the relationship
between process innovation and business performance such that the
higher the competitiveness the stronger the relationship between
process innovation and business performance.
In terms of conceptual framework, this study adopts the concept
of “fit as moderation” proposed by Venkatraman (1989a). This con-
cept is based on the contingency perspective whose the premise
suggests that no strategy is universally superior regardless the
environmental or organizational context. As mentioned earlier, the
general axiom held in strategic management research suggests that
no strategy is universally superior; thus, researchers have used a
contingency perspective which is operationalized in a moderation
(interaction) relationship models. The contingency perspective has an
underlying theory which suggests that “the impact of the predictor
(e.g., strategy) varies across the different levels of the moderator (e.g.,
environments). In this regard, the fit between the predictor (i.e.
strategy) and the moderator (i.e. environment) determines the cri-
terion variable (i.e. performance) as the moderator will affect the
direction or the strength of the relation between the strategy and
performance” (Venkatraman, 1989a, p. 424). The research model and
the hypotheses tested in this study are presented in Fig. 1.
Environmental
Dynamism
Product Innovation
H3 H4
Strategy
H1
Business
Performance
H2
Process Innovation H5 H6
Strategy
Environmental
Competitiveness
Fig. 1. Research Model.
3. Methods
3.1. Sample and procedures
This cross-sectional study is based on mailed survey of a
sample of Australian manufacturing firms which cover various
sectors, including food, electronics, wood, textiles, plastics, metal,
and pharmaceutical. In administering the mail survey, we
explained clearly in the cover letter of the survey that the ques-
tionnaire should be directed to middle and senior managers who
have primary responsibilities on strategic operations of the firms.
Out of 1,000 surveys that were mailed out, 207 usable responses
were received, accounting for 20.7% response rate.
3.2. Measures
The measures used in this study were all based on those used
in previous studies on similar topics in order to ensure their
content validity. The details of the measures used in this paper are
presented in Table 1. The measures of uncertainty (dynamism) and
hostility (competitiveness) were derived from the study by Jansen
et al. (2006). The scale for environmental dynamism comprises
five items which reflect continuous and significant changes in the
market as well as customers' demands or new products. The
measure for environmental competitiveness comprises four items
and reflects the intensity of competition in the market brought by
strong competitors with one of the hallmarks being price war.
The scales for product innovation and process innovation strate-
gies were derived from Prajogo and Sohal (2006), Gunday et al.
(2011), and Akgün et al. (2009). Specifically, we measure the extent
to which the innovation strategy is implemented in the organizations
through certain innovative practices. For product innovation strate-
gies, we measure the implementation of these strategies in terms of
new materials, new components, new technologies, and new fea-
tures which are embedded in the new products. Similarly, we mea-
sure process innovation strategies by measuring the implementation
of these strategies in terms of the degree of improvements of relia-
bility and efficiency in the production process, including the use of
advanced technologies which are ahead of competitors.
The business performance scale comprises of three items: sales,
profit, and market share, based on previous studies on operations
strategies and performance (da Silveira, 2005; Li et al., 2006; Ward
and Duray, 2000; Yamin et al., 1997). Respondents were asked to
provide their perceived rating of the three performance measures
of their firm relative to the industry average. Past studies have
shown that that the use of perceptual measure for performance
still has an acceptable degree of consistency when compared to
objective performance or external secondary data (Curkovic et al.,
2000; Forker et al., 1996; Tan et al., 2002; Tracey et al., 2005).
 D.I. Prajogo / Int. J. Production Economics 171 (2016) 241–249 245

Table 1
Scale validity and reliability.

Scales Items Factor loading Cronbach's alpha

Product innovation strategy We develop or use new components 0.74 0.85

We develop or use new materials 0.68 (0.59)
We develop or use new technologies in our products 0.81
We develop or use new product features 0.82
Process innovation strategy We improve the reliability of our production processes and technologies 0.67 0.81
We improve the speed and efficiency of our production processes 0.76 (0.50)
We use advanced technologies in our production processes 0.63
We strive to keep our production processes ahead of competitors 0.76
Environmental dynamism Environmental changes in our market are intense 0.55 0.82
Our clients regularly ask for new products and services 0.65 (0.49)
In our market, changes are taking place continuously 0.83
In a year, our market has changed significantly 0.75
In our market, the volumes of products and services to be delivered change fast and often 0.69
Environmental competitiveness Competition in our market is intense 0.82 0.86
Our organizational unit has relatively strong competitors 0.84 (0.64)
Competition in our market is extremely high 0.95
Price competition is a hallmark of our market 0.54
Business performance Sales growth 0.69 0.75
Profitability 0.72 (0.50)
Market share 0.70
χ2 ¼ 287.99; df¼ 158; RMSEA ¼ 0.063; NFI ¼0.909; NNFI¼ 0.943; CFI ¼0.952

n
The values of Average Variance Extracted (AVE) are in bracket.

Table 2
Discriminant validity.

Test # Construct Unconstrained χ2a Constrained χ2b Δχ2b  a

Dynamism with
1 Competitiveness 57.310 394.581 337.271
2 Product innovation strategy 101.963 348.923 246.960
3 Process innovation strategy 133.187 480.468 347.281
4 Business performance 107.385 488.601 381.216
Competitiveness with
5 Product innovation strategy 33.254 393.050 359.796
6 Process innovation strategy 84.461 468.857 384.396
7 Business performance 54.354 474.728 420.374
Product innovation strategy with
8 Process innovation strategy 109.464 283.139 173.675
9 Business performance 69.763 381.386 311.623
Process innovation strategy with
10 Business performance 116.469 419.149 302.680

4. Results discriminant validity between the two constructs (Ahire et al.,

4.1. Scale validity and reliability
Confirmatory factor analysis (CFA) was employed to simulta-
neously validate the five variables used in this study, and the result
is presented in Table 1. The model's fit support the uni-
dimensionality of the constructs and the items' loadings to their
respective constructs support the convergent validity for the
measures (Bagozzi et al., 1991; Bollen, 1989). The Average Variance
Extracted (AVE) values provides further support for convergent
validity as the value for each scale is close or above 0.5 recom-
mended by Fornell and Larcker (1981). The result shows that the
Cronbach's alphas for the five constructs pass the cut-off point of
0.7. Table 1 presents the results of the validity and reliability tests.
4.2. Discriminant validity
Discriminant validity was checked by comparing the con-
strained and unconstrained pairs for the five constructs in this
study, following the method suggested by Venkatraman (1989b).
The difference of the chi-square values (Δχ2) between the models
were calculated, and the Δχ2 values greater than 6.64 support the
1996). With the five scales included in this study, ten discriminant
tests were run, and the results (as presented in Table 2) show that
all tests met the criterion for discriminant validity.
4.3. Common method bias test
Since the data set was drawn from a single respondent in the
organization, we tested the data to ensure that it had no major
problem with response-bias. We used Harman's single-factor test
by creating a measurement model which loaded all 19 items into
one latent factor (Podsakoff and Organ, 1986). The result produced
poor fit (χ2 ¼1402.15; df ¼168; RMSEA ¼ 0.189), and most items
showed poor factor loadings (o0.5). These results suggest that
common method variance was not a significant problem in the
data set.
4.4. Composite scores
Following the validity and reliability tests, the composite score
was generated from the five constructs based on their mean scores
(Hair et al., 2006). Since the composite scores will be used for
regression analysis, the underlying assumption of normality was
246 D.I. Prajogo / Int. J. Production Economics 171 (2016) 241–249

Table 3
Mean, standard deviation, and bivariate correlations.

Mean S.D 1 2 3 4

Product innovation 1 4.83 1.13 1.00

Process innovation 2 5.04 1.07 0.48nn 1.00
Environmental dynamism 3 4.87 1.15 0.32nn 0.20n 1.00
Environmental 4 5.63 1.08 0.16* 0.21nn 0.28nn 1.00
competitiveness
nn nn
Business performance 5 4.77 1.01 0.33 0.31 0.10  0.05

n
po 0.05.
nn
p o0.01.

Table 4
Hierarchical moderated regression analysis.

Fig. 2. Interaction between product innovation and environmental dynamism.

Business performance

Firm profile
Size 0.04 0.06
Innovation
Product innovation 0.23nn 0.23nn
Process innovation 0.20nn 0.26nn
Business environment
Dynamism –  0.01
Competitiveness –  0.13
Interaction
Product innovation  dynamism – 0.18n
Process innovation  dynamism –  0.07
Product innovation  competitiveness –  0.24nn
Process innovation  competitiveness – 0.23nn
R2 0.14 0.22

n
po 0.05.
nn
p o0.01.

checked based on their skewness and kurtosis, and the results

show that the values fall within the acceptable range ( 71 and
o7, respectively) recommended by Curran et al. (1996).

4.5. Bivariate correlations Fig. 3. Interaction between product innovation and environmental competitiveness.

Pearson's zero order bivariate correlations are performed as a
preliminary analysis on the relationship among the variables in
this study, and the results are presented in Table 3. Most coeffi-
cient correlations (r) reflect low to medium values; thus, do not
raise major concern on the potential multicollinearity among these
variables.
Both dynamism and competitiveness show positive correla-
tions with both product and process innovation although the
correlation coefficients (r) and the significance level (p-value)
indicate slight differences as dynamism shows a relatively stronger
correlation with product innovation, while competitiveness shows
a relatively stronger correlation with process innovation.
4.6. Hierarchical moderated regression analysis
A hierarchical moderated regression analysis was run to test the
hypotheses, following Venkatraman's (1989a) suggestion that this
method is suitable if the model specifies that the performance
outcome (business performance) is jointly determined by the
interaction of the predictor (innovation strategies) and the mod-
erator (business environment). The result is presented in Table 4.
For the baseline model, both product and process innovation show
a positive effect on business performance (β ¼0.23 at po0.01;
β ¼0.20 at po0.01 respectively). These findings support H1 and H2.
The moderating effects of environmental dynamism and com-
petitiveness on product and process innovation were tested by
creating the product terms between these variables using their
standardized scores. The findings show that environmental
dynamism strengthens the relationship between product innova-
tion and business performance (β ¼0.18 at po 0.05), but the same
is not applied to process innovation (β ¼  0.07 at p 40.05).
Therefore, H3 is supported, but H4 is not supported. Environ-
mental competitiveness, on the other hand, weakens the rela-
tionship between product innovation and business performance
(β ¼  0.24 at p o0.01), but strengthens the relationship between
process innovation and business performance (β ¼0.23 at
po 0.01). Therefore, both H5 and H6 are supported. The results of
collinearity diagonistic test on the regression model show that the
Variance Inflation Factor (VIF) values range between 1.06 and 2.15
(well below 10); thus, confirming the absence of multicollinearity
problems in the dataset. The interaction plots of H3, H5, and H6
are presented in Figs. 2–4.
5. Discussion of the findings and conclusions
Our findings show that both product and process innovation are
effective sources of competitive advantage (H1 and H2). However, we
also find that their effectiveness is influenced by the characteristics of
business environment. Our findings show that dynamism positively
moderates the link between product innovation and business per-
formance (H3). In other words, the impact of product innovation on
 D.I. Prajogo / Int. J. Production Economics 171 (2016) 241–249
Fig. 4. Interaction between process innovation and environmental competitiveness.
business performance is stronger in more dynamic environments
than in less dynamic environments. Dynamic environments open up
market niches and firms strive to deliver products that can generate
rents for the firm by capturing and satisfying customer demand in
those niches. Our study reveals that environmental competitiveness
positively moderates the link between process innovation and busi-
ness performance (H6) but negatively moderates the link between
product innovation and business performance (H5). In other words,
process innovations are more beneficial in high competitive envir-
onments than in low competitive environments. Process innovation
offers an alternative way of generating rent for firms in highly com-
petitive environments since it enables financial conservation through
cost reduction and cannot be easily imitated by competitors. As such
firms are likely to put more effort into process innovations in highly
competitive environments. In contrast, the effect of product innova-
tion on business performance is weakened in a highly competitive
environment suggesting that product innovations are less beneficial
in such environments. Due to the preponderance of competition,
there are typically many innovative products and substitutes products
in highly competitive markets (Huse et al., 2005; Zahra and Bogner,
1999) such that the rent generating potential of firms' product
innovations is weakened. In support, Adner and Levinthal (2001)
suggested that generally, in competitive environments, markets are
saturated with equal quality of product offerings, and therefore, fur-
ther innovation on product design would not likely attract new cus-
tomers, thus limiting rent generating potential of product innovation.
5.1. Theoretical implications
Through the lens of contingency theory and RBT, our study
underscores the importance of achieving strategic fit or alignment
(Hambrick and Lei, 1985; Venkatraman and Prescott, 1990)
between business environment and firms' strategies in maximiz-
ing business performance in the innovation context. While in the
light of RBT, both product and process innovation are shown to be
effective strategies in achieving competitive advantage, in high-
lighting the role of business environment as a moderator, our
findings demonstrate the contingency theory which suggests that
the effectiveness of firms' strategies in producing competitive
advantage is influenced by the organizational context, including
the business environment (Ward et al., 1996). By integrating RBT
and contingency theory, the competitive values of different inno-
vation strategies in different kinds of environments are appro-
priated. To the best of our knowledge, this is the first study which
empirically examines the strategic fit (match and mismatch)
247
between different characteristics (dynamism and competitiveness)
of business environment and different strategies of innovation
(product and process).
5.2. Managerial implications
Our study also offers some implications for managerial decision
making. First, our student demonstrates the effectiveness of both
product and process innovation as competitive strategies in deli-
vering business performance. Therefore, building and integrating
both innovation strategies and capabilities would equip firms in
facing different kinds of environments, indeed, navigating through
the changing conditions of business environments (e.g. due to
industry maturity or product life cycle). Secondly, the increasing
turbulent business environment means that firms are constantly
faced with either dynamic and/or competitive environments. In
this regard, our study further highlights the need to emphasize
both product and process innovations in dynamic environments as
these may be needed to enable the firm to seize market niches
that may open up in such environments. Similarly, managers need
to emphasize process innovations in competitive environments as
they are more protected from competitors' imitations. We found
no moderating effect of competitiveness on the relationship
between product innovation and business performance. However,
rather than taking this finding as a given we argue that in practical
terms, managers need not necessarily abandon product innovation
activities in competitive environments. This is because “individual
firms still perceive opportunities for market share gains to be had
by offering consumers better products. Because each firm evalu-
ates its development options with regards to its rival's existing
rather than potential product, each firm believes that market share
gains will ensue if it offers a better product than was previously
available to consumers. As a result, despite the reduction in will-
ingness to pay for improvement on the part of consumers, firms,
driven by competitive pressures, engage in significant levels of
product innovation” (Adner and Levinthal, 2001, p. 612). The
implication of the moderating role of competitiveness on the links
between process innovation and business performance is the need
to focus on cost effective and rent generating process innovations
in highly competitive environments as managers may be left with
limited options to achieve competitive advantage in such envir-
onments. In contrast, our finding showing that competitive
environments negatively moderate the impact of product inno-
vation on business performance highlights the need for managers
to look for ways of making product innovation work for their firms
even in highly competitive environments. Finally, the finding that
dynamic environment positively moderates the impact of product
innovation on business performance highlight the need to for
managers to continue to focus on developing new products in
dynamic environments to be able to fill the gaps that may open up
in such environments and capture the niche market segments.
6. Limitations and future research direction
Given the research design, this study has a number of limita-
tions which we observe below as well as some recommendations
for improvements in future research. First, this study resorted on
perceptual measures for measuring product innovation, process
innovation, and business performance. While this is still accep-
table, future studies can improve this area by using real metric and
objective data wherever available. As in the cases of other cross-
sectional studies, it is cautious to claim true cause and effect
between variables examined in this paper. Therefore, future
research should consider the use longitudinal data to improve the
248 D.I. Prajogo / Int. J. Production Economics 171 (2016) 241–249
findings of the study, especially in capturing the dynamic change
in the environment as the industry grows into maturity.
This study is also based on cross-sectoral industries given its
position as one of the early studies of this topic. We therefore
recommend that future studies be focused on a single industry
where the pattern of innovation could be more homogeneous in
order to produce sharper understandings and inferences.
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